When you buy a share of stock, you're really buying a tiny piece of a company. Its business becomes your business; its concerns become your concerns. Of course, unless you are Bill Gates or Warren Buffett, your ownership stake is likely only a small fraction of the company's total size. But by controlling that share of stock, you are a part owner of the business behind it.
It really is your company
Once a year, your ownership privileges allow you to decide who will serve on your company's board of directors. In turn, the board decides on the CEO and the rest of the executive team. Generally, investors choose to maintain the status quo -- they probably wouldn't have bought shares in the first place if they didn't trust the management team.
When the motivation is strong enough, however, shareholders really do control the company. Just ask Disney's (NYSE:DIS) Michael Eisner, for instance, how his battle with shareholders ended. Or, more recently, consider the saga surrounding drug-delivery technology company Flamel (NASDAQ:FLML) and its former CEO Gerard Soula. A group of Fools stood at the forefront of the charge that ousted Soula from the company he founded.
Make your money work for you
Individual investors usually don't aim to radically change the companies they own. Most of us are simply looking for our capital to appreciate over the long term. Of course, it doesn't always happen that way. If you're like me and owned networking giant Cisco (NASDAQ:CSCO) as it peaked during the boom and crashed in the tech bust, you know how easy it is to get lured in by a great business and a rising tide, no matter what the company's stock is really worth.
To be a successful investor -- to know how to make your money work for you -- you need to learn from my mistake. And yes, it'll be far less painful for you to learn from my mistake than it was for me to do the same. The lesson is simple: Every company has a true worth. Buy it for less than it's worth, and you're likely to do quite well. Pay above that value, and chances are you'll soon be feeling the same pain that I did as a partial owner of Cisco.
So, what's it worth?
Of course, that's the key question. In truth, the best way to answer that question is to treat the company just as it treats its own parts. Think about it: A company's goal is to make money. It can have a business model as straightforward as Valero (NYSE:VLO), an oil refining firm that specializes in producing quality products from lower-grade raw materials. Or it can be as complicated as General Electric (NYSE:GE), a behemoth that has a hand in everything from movies to jet aircraft engines to hospital ultrasound equipment to financial services. Whatever its means, the end goal is to make money.
A company decides what businesses to enter based on a simple calculation. It estimates how much money it expects to make in that business for as long as it plans to compete. It then dials back all those future earnings to what they're valued at today. It compares that dialed-back earnings number to what it thinks it will cost to get into the business. If the benefits outweigh the costs, then the company will enter that line of work.
Running the numbers
This is known as a discounted cash flow (DCF) calculation, and if it works for a business -- which is trying to figure out where to invest its money -- it will work for you. If you find a stock trading for less than what its dialed-back earnings are worth today, then it's trading for less than its real value. In that case, it just might be time to buy. If it's trading above its worth and you buy it -- well, then, you run a greater risk of repeating my Cisco experience.
This is a time-tested investing strategy and the key method that lead analyst Philip Durell uses at Motley Fool Inside Value. With the help of this technique, he has uncovered two dozen screaming values for his subscribers -- and these companies are no slouches. His picks include veritable titans, such as home-improvement supercenter Home Depot (NYSE:HD), which has beaten the market by 6 percentage points since he first pointed out its value.
How to get started for yourself
If you'd like to know what a stock is worth and use that information to make informed investing decisions, Inside Value can help. The service has its own online DCF calculator that will help you with the number-crunching. If you're already a subscriber, you can access it here. If not, click here to start a free 30-day trial, and try out the calculator to your heart's content. (You'll also have full access to everything we've ever published, as well as the Inside Value team, who will be happy to help you get started.)
To make it easier for you to get started, you might want to begin with ConocoPhillips (NYSE:COP), an Inside Value watch list stock. With the help of these financial records and these estimates, you'll be on your way to finding out whether there's still value to be found in this oil giant.
Are you ready to get started for yourself? Or would you prefer to follow the strategies of a time-tested, market-beating investor? Either way, Inside Value can help.Click hereto start your 30-day free trial.
At the time of publication, Fool contributor and Inside Value team memberChuck Salettaowned shares of General Electric. He had no financial stake in any of the other companies mentioned in this article. The Fool has adisclosure policy.
